Speculator- a Dirty Word?

With President Obama himself recently calling out “oil speculators” as the root cause of high gas prices, we’re back to sighing and shaking our head. We’ve mentioned it in our recent post about blaming speculators for inflation fears, but right now, the speculators are a convenient scapegoat for many, and at the risk of sounding like an angsty pre-teen, it just ain’t fair.

Part of the problem is that the term “speculator” seems to carry a negative connotation. Unfortunately, that connotation is based on faulty understanding of the term. Let’s clarify what it means in terms of futures.

The futures market originally developed out of a need for farmers to ensure cash flow. They would make deals with purchasers in advance of harvest to guarantee they’d have money for seed, supplies, and food on the table. Sometimes they got a good deal; if crops did well, and supply was high, it was possible they would get a better payout for their crop than they would have if they’d waited to sell. Sometimes they made less; if weather interfered and supply was low, they might have been able to get a higher price if they’d waited. The same went for purchasers. It was a risk, but it helped facilitate the trade efficiently. These were “hedgers.”

As time went on, other commodities began being traded in the same manner. Both sellers and purchasers would change their positions at times in order to get the best deal. Investors soon realized there was a massive opportunity brewing. At that point, they began taking long (buying) and short (selling) positions in an attempt to generate returns off of price changes, without any intent to deliver or receive the goods. To facilitate these transactions, contracts were increasingly “rolled” from month to month, with end dates fluctuating. These were “speculators.”

This is where people begin to take issue. They argue that this kind of speculation causes prices to fluctuate wildly, but as we’ve covered before, these kinds of swings were occurring long before commodity funds and ETFs hit the scenes. The other thing to remember is that these speculators are acting on the same principle that the hedgers are- supply and demand. It’s how they determine whether buying or selling is the appropriate action. It’s also important to note that even the hedgers are speculators at times- buying and selling contracts for delivery in an attempt to get the best pricing for their needs.

Realistically, everyone is a speculator. When a company purchases a large amount of a given product leading up to the holiday season in anticipation of high demand, potentially causing a shortage and leading to higher retail prices- they are, in essence, speculating. When a stock investor purchases a large amount of shares in a smaller company in anticipation of the company becoming popular in the future, driving up the price of that stock- they are speculating. When you, as a consumer, buy 10 boxes of cereal on sale in anticipation of prices not being that low again in the near future- you are speculating.

The term “speculator” is not a dirty word. And we should stop treating it as such.

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“There is at the present juncture a certain fermentation of mind, a certain activity of speculation and enterprise which if properly directed may be made subservient to useful purposes; but which if left entirely to itself, may be attended with pernicious effects.” ~ Alexander Hamilton, founding father and first Treasury Secretary of the United States

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Forex trading, commodity trading, managed futures, and other alternative investments are complex and carry a risk of substantial losses. As such, they are not suitable for all investors. You should not rely on any of the information as a substitute for the exercise of your own skill and judgment in making such a decision on the appropriateness of such investments.

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Disclaimer

Forex trading, commodity trading, managed futures, and other alternative investments are complex and carry a risk of substantial losses. As such, they are not suitable for all investors.
The mention of market based performance (i.e. Corn was up 5% today) reflects all available information as of the time and date of the publication.